The Emperor Has No Clothes - Sainik

Watching TV nowadays, especially the business channels makes me wonder whether the talking heads, have become followers of Joseph Goebbels, the propaganda secretary of Hitler, who believed the dictum: A lie told a thousand times becomes the truth.

Well, strong words you may say. But, lets check the facts:

1. Inflation is under Control.

"Inflation would be around 5 percent by the end of the financial year" - RBI Governor Subbarao. "Inflation to drop to 5 percent by the year-end" - Montek Singh Ahluwalia.

Both gentleman made these comments in August 2009 confident of achieving this by March 2010. We saw inflation crossing double digits in March for the first time in nearly two years. However, Ahluwalia, unfazed by the Inflation Monster, further predicted in March 2010: "Inflation to drop in two-three months". We all know what's happening on the inflation front.

2. India is Decoupled from the rest of the world.

Based on the relative strength of the Indian markets, every talking head is convinced that we are in our own orbit and nothing in the world would affect us negatively.

Three years ago, China's stock market peaked out in August 2007. The US market peaked out in October of that year and Europe followed soon thereafter. November was the turn of Hong Kong. The Indian markets ignored this till January of 2008. We all know what happened to the Indian markets in 2008.

3. There is money waiting on the sidelines.

Everyone seems to be convinced of this argument. However, a cursory glance at the cash held by the Indian Mutual Funds across the board reveals that most funds hold ONLY 3-7 percent of their assets in cash. (source: National Stock Exchange )

This is similar to that of the situation in Dec-2007/Jan-2008 and April-May 2006. We all know what happened thereafter.

4. The market will trade sideways.

Analysing the Sensex range for the past 10 years shows that there is an average swing of 50 percent between the highs and lows of the year.Only once in the last decade has the Sensex has swung in a range of 37 percent. This year the difference between the highs and lows is just 18 percent.

With so much uncertainty around, and looking at the historical swings of the Sensex, it requires a brave person to predict that the Sensex will swing within this narrow range.

5. The Retail Investor is missing.

It is a general belief that the retail investor comes in at the Top of The Market. Therefore, the argument seems to be the retail investor has not yet appeared, the market still has some more distance to go.

The retail investor is still nursing his wounds since most of the retail stocks bought in the frenzied days of the last bull run are still trading at steep discounts to the prices prevailing at that point of time. Remember the frenzy in DLF, Unitech, Suzlon, GMR Infra, Punj Lloyd, Aban Lloyd , RNRL, Reliance Power, Reliance Infrastructure, etc.

Even in 2009-10, "retail favourites" from the sugar sector, such as Renuka, Balrampur Chini etc. and the from education sector-Educomp, Edserve etc.-have failed them.

Huge volume and a run-up was seen even in the Tech sector stocks, just a couple of months ago, which now are slowly drifting down. So, in one way, the retail investor has already done his duty: bought at peaks. To expect retail to perennially come and get slaughtered may be asking for too much.

6. The Indian corporate sector is performing well.

It is a well-documented fact that first-quarter results disappointed the market. The earnings expectation for Sensex companies in 2010-11, was around 1060-1070, which is nearly 30 percent higher than 825 achieved last year.

In the first quarter, the topline of Sensex companies was robust but the bottomline was up by around just 10 percent. So, to achieve expected growth rates, the corporate sector has to show a profit growth not seen in the past ever.

7. The Direct Tax Code Bill is good for companies.

The Direct Tax Code Bill will be introduced in the Parliament this session and barring any unexpected delays would become applicable for the year 2011 onward. While this has many welcome features, it will hurt corporate profitably for sure. The tax rate is being brought down to 30 percent, which is laudable, but currently the effective tax rate for the corporation is in fact lower, at 22 percent.

In the direct tax code regime, even IT companies would be in the tax net. This is because these companies currently use the standard deductions which will not be available with the new Direct Tax Code. Reliance Industries currently pays an effective rate of around 15 percent.

So, to achieve higher growth rates in profits , corporations would have to work that much harder and they cannot oppose the Direct Tax Code so easily, since they are the ones that asked for it in the first place.